2015/16 Assessment of ASX Clearing and Settlement Facilities 1. Introduction and Executive Summary

In accordance with its responsibilities under the Corporations Act 2001, the Reserve Bank of Australia (the Bank) carries out periodic assessments of how well each clearing and settlement (CS) facility licensee is complying with applicable Financial Stability Standards (FSS) determined by the Bank and the licensee's more general obligation to do all other things necessary to reduce systemic risk.[1] The FSS are aligned with the Principles in the Principles for Financial Market Infrastructures (the PFMI), published by the Committee on Payments and Market Infrastructures (CPMI) and the Technical Committee of the International Organization of Securities Commissions (IOSCO) in 2012, that address matters relevant to financial stability.[2],[3]

This report presents the Bank's Assessment of the four licensed CS facilities in the ASX Group (ASX) – the two central counterparties (CCPs), ASX Clear Pty Limited (ASX Clear) and ASX Clear (Futures) Pty Limited (ASX Clear (Futures)); and the two securities settlement facilities (SSFs), ASX Settlement Pty Limited (ASX Settlement) and Austraclear Limited (Austraclear) – for the year ending 30 June 2016 (the Assessment period).[4] In accordance with the governance arrangements for the Bank's oversight and supervision activities, this report has been reviewed and approved by the Payments System Board.

All four facilities have made substantial progress towards addressing the recommendations and regulatory priorities identified in the Bank's 2014/15 Assessment of ASX Clearing and Settlement Facilities.[5] Many of these recommendations and priorities have been fully addressed. Important actions include the modification of plans to replenish financial resources in response to a drawdown following a participant default, enhancement of risk and default management arrangements to reflect experiences gained in light of the default of BBY Limited (BBY), and ongoing refinement of stress test models.

It is the Bank's assessment that all four facilities have observed almost all relevant requirements under the FSS in the Assessment period (Section 2 and Appendix A); in a small number of areas, the facilities have broadly observed the relevant requirements.[6] The Bank therefore concludes that the facilities have conducted their affairs in a way that causes or promotes overall stability in the Australian financial system.

The Bank has nevertheless made a number of recommendations to further strengthen the ASX facilities' observance of requirements under the FSS. These include recommendations to encourage continuous improvement, even where relevant requirements have been observed. Such improvement contributes to the ASX CS facilities' ongoing compliance with the obligation to do all other things necessary to reduce systemic risk. The recommendations and regulatory priorities cover a number of areas, including to encourage:

  • further enhancements to the ASX CCPs' financial risk management arrangements, reflecting the conclusions of recent implementation monitoring by CPMI and IOSCO, as well as forthcoming guidance to the Principles
  • continued dialogue with the Bank and the Australian Securities and Investments Commission (ASIC) on cyber resilience, framed by new guidance from CPMI and IOSCO
  • finalisation of measures arising from experiences gained in the management of the default of BBY
  • completion of ASX's transition to a new treasury investment policy
  • improvements in ASX's documentation of its risk models, and similar enhancements to documentation in the areas of recovery planning and default management
  • continued investment in the ongoing maintenance and smooth functioning of the Clearing House Electronic Sub-register System (CHESS) in the transition to its replacement system.

The Bank is obliged under the Corporations Act to report its findings to the relevant Minister and ASIC. Consistent with established policy, Assessment reports are also published on the Bank's website. The Bank's Assessment also forms the basis for formal assessments of the ASX CS facilities against the Principles, carried out jointly with ASIC. The Bank and ASIC have committed to carrying out these assessments periodically, with the first published in September 2014.[7]

1.1 Overview of Activity in the ASX Clearing and Settlement Facilities

Activity in the ASX CS facilities increased for the most part. The daily average number of trades in cash equities cleared by ASX Clear and futures contracts cleared by ASX Clear (Futures) increased in 2015/16, by 24 per cent and 8 per cent, respectively. The notional value outstanding of over-the-counter (OTC) interest rate derivatives (IRD) positions cleared by ASX Clear (Futures) increased significantly, to $1 600 billion at the end of June 2016 from $441 billion at the end of the previous period. By contrast, the average daily number of equity options contracts cleared by ASX Clear declined by a further 16 per cent in 2015/16.

In 2015/16, average price volatility in the equities market increased compared to the previous year to be above the 10-year average. Consistent with this increase, margin rates for positions in equity-related products were higher on average over the period. By contrast, volatility on the interest rate futures market edged down slightly in the Assessment period. Nevertheless, average margin rates in these products were higher than in 2014/15, primarily resulting from elevated margin rates in the second half of 2015; this, in turn, reflected higher volatility in those contracts in June and July 2015.

The ASX CCPs' total margin collected increased in 2015/16 by 15 per cent. This increase was mainly driven by higher initial margin held against derivatives positions at both CCPs, resulting from a combination of larger open positions and higher margin rates. Average daily initial margin held by ASX Clear against unsettled cash equity transactions in 2015/16 was around the same as in the previous year, despite the increase in trading activity and higher volatility. This is partly explained by the transition to a shorter cash equity settlement cycle in March 2016, with the average daily initial margin held after the transition being 4 per cent lower than in 2014/15.

Key operational targets were met in the Assessment period. All key systems recorded availability at or above 99.9 per cent, while peak usage was below the target of 50 per cent of all systems, ensuring adequate capacity headroom.

1.2 Review of Regulatory Priorities and Key Recommendations

The principal focus of the 2015/16 Assessment has been the ASX CS facilities' progress towards meeting the recommendations and regulatory priorities identified in the Bank's 2014/15 Assessment. These include recommendations related to experiences gained from the default of BBY, recovery planning (in particular, arrangements for the replenishment of the CCPs' prefunded financial resources) and the CCPs' stress test frameworks. Prompted in part by the BBY default, the Bank conducted a ‘deep dive’ review of ASX's default management arrangements during the Assessment period; this is summarised in Section 4 of the Assessment report. ASX has made considerable progress in all of the areas identified and has fully addressed most of the Bank's recommendations and priorities.

Some of the key actions taken by ASX are summarised below, along with related core recommendations and priorities for the 2016/17 Assessment period.

1.2.1 Recovery planning

The Bank's 2014/15 Assessment recommended that ASX carry out further work to enhance its arrangements for the replenishment of the CCPs' financial resources in the event that these were drawn down following a participant default. Following market consultation, ASX implemented enhancements to these arrangements in June 2016. The enhancements aim to provide for the CCPs to promptly return to full financial cover following a participant default while also mitigating the potential for procyclicality. The Bank has also considered the reliability of ASX's arrangements to fund its own replenishment obligations in stressed circumstances.

Consistent with the Bank's recommendations, ASX has also taken steps to update the documentation of its Recovery Plans. The update reflects the expanded set of recovery tools introduced in October 2015, as well as the new replenishment arrangements. Alongside this update, ASX has developed some information management tools to support decision-making in a recovery scenario. ASX has also integrated the testing and review of the Recovery Plan into its broader framework for testing and review of risk and default management policies and processes. The first test of ASX's enhanced recovery arrangements took place in June 2016, in the context of ASX's default management fire drill for exchange-traded products.

The Recovery Plan identifies scenarios that could threaten the ASX CS facilities' ongoing provision of critical services, describes events that would trigger the activation of the Recovery Plan, and sets out how ASX would respond to such scenarios. It also describes the suite of tools available to the CS facilities in recovery and details the governance arrangements both for the use of these tools and for review of the recovery planning framework. The Bank has identified a number of aspects of the Plan that could usefully be elaborated to better support its practical application in a stressed scenario. These are refinements that ASX is encouraged to take up in the normal course of its business. The Bank will continue to monitor the development of the Plan over the coming Assessment period.

1.2.2 Experiences gained from the default of BBY Limited

In line with the Bank's 2014/15 recommendations, ASX completed a detailed review of the experiences gained from the default of BBY – an ASX Clear, ASX Settlement and Austraclear participants – with a particular emphasis on the default management actions taken by ASX Clear. Based on the review, ASX set out a plan for implementing a number of enhancements to its risk management and default management arrangements. This plan includes:

  • changes to ASX Clear's participant core capital and liquidity risk management requirements
  • a review of how the CCPs' margin and stress test models could better take into account liquidity, spread and concentration risks
  • changes to improve portability arrangements and the close-out process
  • education and communication initiatives, including updates to participant disclosures on ASX's default management arrangements.

ASX intends to implement the elements of the plan during 2016/17.

1.2.3 Default management

Prompted in part by the default of BBY, the Bank conducted a detailed assessment of the ASX CS facilities' default management arrangements against the relevant requirements in the FSS.

ASX has a well-established framework for managing the default of a participant, which it has continued to enhance over recent years through its testing and review process. Accordingly, the Bank has assessed that all the CS facilities observed the standard on default management rules and procedures. The Bank has nevertheless made a number of recommendations outlining some additional steps the ASX CS facilities should take to fully meet expectations, particularly in relation to documentation and disclosure, as well as recommendations to enhance their approaches in the spirit of continuous improvement.

Many of the Bank's recommendations are consistent with ASX's plans to implement further refinements to its default management framework (DMF). The Bank expects ASX's DMF to continue to evolve over the coming period, largely to incorporate further refinements identified during ASX's review of experiences gained from the BBY default.

1.2.4 Stress test framework and model validations

Consistent with the Bank's 2014/15 recommendations, ASX has continued to enhance its stress test framework during 2015/16. Enhancements include the addition of a number of ‘for-information’ scenarios that extend beyond ASX's interpretation of ‘extreme but plausible’. These scenarios are used by ASX management alongside the results of reverse stress test analysis as an input into the sizing of the CCPs' financial resources. ASX has also modified the CCPs' stress test framework to incorporate peak intraday price changes, and has carried out additional sensitivity analysis on the assumed shape of the yield curve in its stress test scenarios for ASX Clear (Futures). A few elements of the Bank's 2014/15 recommendations nevertheless remain outstanding. These are expected to be implemented in conjunction with enhancements to ASX's risk management system (see below). In the meantime, ASX has put in place interim arrangements to partly address the outstanding recommendations.

During 2015/16, consistent with the FSS, ASX continued to conduct annual validations of its key risk management models. A common theme in ASX's recent independent risk model validation exercises has been that there is scope for improvement in ASX's documentation of its risk models. This is consistent with the Bank's own observations. In its recommendations for 2016/17, the Bank encourages ASX to continue enhancing the documentation of the key elements of its financial risk management framework. This will better support the governance of decision-making and reduce key-person risk. It will also provide a sound basis for ASX's disclosures to both participants and regulators. Indeed, as part of this, ASX is encouraged to ensure that it clearly articulates to participants and regulators (and, where appropriate, the public) the analytical basis and rationale for the choice and calibration of key model parameters and assumptions.

1.2.5 Treasury investment policy

The Bank has engaged extensively with ASX in recent years to address the concern that the ASX CCPs' treasury investment policy allowed relatively large and concentrated unsecured exposures to the four large domestic banks. The 2014/15 Assessment clarified the Bank's expectations for the credit and liquidity risk profile of ASX's treasury investments, with an implementation date of end June 2017. In May 2016, ASX endorsed further changes to its treasury investment policy for the 2016/17 financial year to meet the Bank's expectations.

Once the changes are implemented, individual unsecured exposures to non-government-related issuers or counterparties will be limited to the level of business risk capital held across the two CCPs (currently $75 million). In the highly unlikely event that investment losses were incurred that exceeded this amount, ASX's enhanced recovery arrangements provide for the allocation of these losses to participants. In April 2016, ASX published guidance for participants on how to calculate their contingent exposure to the allocation of investment losses in excess of the CCPs' business risk capital. The Assessment recommends that ASX complete the implementation of the planned changes to its treasury investment policy by end June 2017.

1.2.6 Cyber resilience

In light of the growing threat of cyber attacks, the Bank has made cyber resilience a key priority in its supervision of ASX's CS facilities, as well as other financial market infrastructures (FMIs). Consistent with recommendations in its 2014/15 Assessment, the Bank, in collaboration with ASIC, has continued a dialogue with ASX on cyber resilience matters during the Assessment period.

Separately, CPMI and IOSCO published guidance on cyber resilience for FMIs in late June. Subsequently, the Bank formally adopted this guidance to support its assessments against relevant requirements in the FSS. While most aspects of the guidance apply with immediate effect, the guidance recognises that it may take time for FMIs to meet the expectation that they be able to recover critical operations within two hours following an extreme cyber attack. Consistent with the guidance, the Assessment recommends that ASX develop concrete plans to improve its capabilities to meet this requirement by end June 2017.

1.3 Other Material Developments

In addition to changes to policies and processes in response to recommendations and priorities in the Bank's 2014/15 Assessment, there were a number of additional material developments during the period.

1.3.1 Change in ASX CEO

On 21 March, ASX announced that its Managing Director and Chief Executive Officer (CEO), Elmer Funke Kupper, had resigned. ASX announced in August that a new Managing Director and CEO, Dominic Stevens, had been appointed. During the interim period, the ASX Chairman, Rick Holliday-Smith provided oversight and board-level input to the Deputy CEO and Group General Counsel, who together had assumed the day-to-day running of the company. Under these interim arrangements, the Chairman did not have day-to-day responsibilities within ASX, but served as a point of contact for senior external stakeholders, including regulators. Before the new CEO was appointed, the Bank discussed the effectiveness of the interim governance arrangements with the Chairman, including to understand how conflicts of interest are managed.

1.3.2 Risk management system renewal

ASX continued to progress its group-wide technology transformation project during the Assessment period. This project aims to upgrade all of ASX's major trading and post-trading systems and rationalise its core technology onto a single services platform.

A particular area of focus for the Bank has been planned enhancements to ASX's risk management systems. Initial phases of this project, completed in 2015/16, included enhancements to ASX's OTC derivatives default management capabilities and the development of functionality to optimise margin requirements for clearing participants holding both OTC derivatives and futures positions.

ASX is working with its technology vendor to finalise the business requirements for a replacement risk management system that would deliver improved stress test and margining capabilities, including the ability to calculate exposures and margin requirements in close to real time. Once these changes are implemented, the project will move on to: enhancing and automating the CCPs' default management capabilities for exchange-traded products; creating a global view of all ASX exposures; and harmonising pre- and post-trade risk management capabilities. ASX is encouraged to continue to progress planned enhancements to the CCPs' risk management systems, including the ability to calculate margin and stress test exposures on a near real-time basis.

1.3.3 Distributed ledger technology

Another important component of the technology transformation project is the replacement of the CHESS clearing and settlement system. This replacement is an important element of ensuring that ASX's core clearing and settlement infrastructure for cash equities meets international best practice, and that its performance, resilience, security and functionality continue to meet the needs of its users. ASX announced in January 2016 that it had selected a vendor, Digital Asset Holdings (DAH), to develop a potential CHESS replacement based on a permissioned, private distributed ledger technology (DLT) system. As part of the partnership, ASX initially acquired a 5 per cent equity interest in DAH, increasing this to 8.5 per cent in June 2016.

Working with DAH, ASX has developed a working prototype of the DLT system. This prototype will be developed further over the coming 12–18 months, in consultation with stakeholders. ASX intends to make a final decision on whether to implement the replacement system towards the end of 2017. The Bank encourages ASX to continue to invest in the ongoing maintenance and smooth functioning of the CHESS system in the transition to its replacement system, ensuring that it continues to meet the needs of users and that it continues to support stability in the financial system. ASX is also encouraged to invest in appropriate contingency arrangements, to ensure the timely implementation of an alternative CHESS replacement system should the decision be taken not to proceed with the DLT solution.

1.3.4 International work on CCP resilience and recovery

In light of the increasing systemic importance of CCPs, a number of international standard-setting bodies have developed a joint workplan to further enhance the effectiveness of CCP resilience, recovery and resolution. As part of this work plan, in August, CPMI-IOSCO published a report setting out an assessment of consistency in the outcomes of CCPs' implementation of the Principles with respect to their financial risk management and recovery practices. This assessment covered 10 CCPs internationally that provide clearing services for derivatives, including ASX Clear (Futures).

Overall, the assessment found that CCPs had made important and meaningful progress in implementing arrangements consistent with the standards of the Principles. The assessment, however, also identified some gaps and shortcomings. Most relevant to the ASX CCPs, the report identified a number of shortcomings in relation to liquidity stress testing, including that some CCPs did not include sufficient liquidity-specific scenarios in their stress test scenarios. Following discussions with the Bank, ASX has produced a range of liquidity-specific stress test scenarios to improve its ability to assess the adequacy of the CCPs' liquid assets. ASX has also indicated its intention to refine elements of the CCPs' liquidity stress test framework regarding ASX Clear, to better align the framework with its strategy for managing liquidity obligations in a default scenario. This would involve maintaining resources to cover a pre-specified value of stressed liquidity exposures arising from cash market transactions. The Bank encourages ASX to implement its plans to expand and refine the liquidity-specific stress test scenarios it has developed and formally integrate these scenarios into the CCPs' liquidity stress test framework. The Bank also recommends that ASX complete the refinements to ASX Clear's liquidity risk management framework.

In August, CPMI-IOSCO also published for public comment draft guidance on the Principles in the area of resilience and recovery for CCPs. The draft guidance, informed by the implementation monitoring exercise, provides more detailed interpretation of the requirements in the Principles in relation to key aspects of a CCP's financial risk management framework. The proposed additional guidance will inform the Bank's dialogue with ASX on these matters in the coming period.

The remainder of this report is structured as follows. Section 2 summarises in tabular form each CS facility's progress towards meeting the recommendations and regulatory priorities from the Bank's 2014/15 Assessment, as well as conclusions and recommendations arising from the 2015/16 Assessment. Section 3 draws out material developments during the Assessment period and discusses the considerations informing each recommendation. Section 4 presents a ‘special topic’ on the ASX CS facilities' default management arrangements, which were enhanced during the period in light of the experience gained from the default of BBY. Appendix A concludes with an overview of the Bank's supplementary interpretation of the FSS for CCPs, a description of the corporate structure of the ASX Group and the detailed assessments against the FSS for each CS facility.

The Bank welcomes ASX's continued efforts towards ensuring its CS facilities contribute to the stability of the Australian financial system. The Bank appreciates both the cooperation of ASX staff and management during the preparation of this Assessment, and the open and constructive dialogue throughout the Assessment period.


The Bank has clarified in a policy statement that it intends to carry out assessments of the ASX CS facility licensees on an annual basis; see <http://www.rba.gov.au/payments-and-infrastructure/payments-system-regulation/frequency-of-assessments.html>. [1]

The Principles and related Disclosure framework and assessment methodology are available at <http://www.bis.org/cpmi/publ/d106.htm>. [2]

The alignment of regulatory standards applicable to central counterparties and securities settlement facilities to the Principles has recently been confirmed by the CPMI-IOSCO in a recent assessment of the Australian regulatory regime, available at <http://www.bis.org/cpmi/publ/d140.htm>. [3]

In this report, the terms CS facility and CS facility licensee are used interchangeably. [4]

The Bank's 2014/15 Assessment may be found at <http://www.rba.gov.au/payments-and-infrastructure/financial-market-infrastructure/clearing-and-settlement-facilities/assessments/2014-2015/>. [5]

The Bank's Assessment applies the rating system used in the assessment methodology that supports the Principles. [6]

The first assessment against the Principles is available at <http://www.rba.gov.au/payments-and-infrastructure/financial-market-infrastructure/principles/assessment-against-principles/asx/2014/index.html>. [7]